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Taxes and Privatization

University of California, San Diego (UCSD) - Department of Economics; Harvard University - Department of Economics; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Why have state-owned firms been so common? One explanation, proposed in the past, is that if state firms can be induced to maximize pretax profits, then state ownership may be less inefficient than private ownership when corporate tax rates are high. If this argument were right, the capital intensity of state-owned firms should fall with privatization. The data instead shows that firms lay off workers when they are privatized. Why? This Paper argues that the government can use cheap loans from state-owned banks to maintain the capital stock of privately owned firms at an efficient level, in spite of a high corporate tax rate. State-owned firms should then have the same capital intensity as equivalent privately owned firms. The Paper then argues that many other distortions to a private firm's incentives, e.g. the minimum wage, result in their employing too few low-skilled workers. State-owned firms, in contrast, can be induced to hire the desired number of such workers. This gain must be weighted against the presumed loss in productivity more generally from state ownership.